Goldman's Scott Kapnick, State Street's Rick Lacaille and other top executives give their take on what's ahead in the new year and the biggest risks facing markets.

MOOD: We are optimistic that global growth will continue to create opportunities for our clients and right now their mood is confident. Investment banking continues to show growth as activity has picked up and the performance of our sales and trading businesses reflects the breadth of our product range, activities and the depth of our customer franchise.

RISK: Markets and economies are more connected than ever and, although they have shown remarkable resilience, something as seemingly innocuous as a unilateral move towards greater protectionism or, much more obviously, a terrorist attack could result in a rapid increase in volatility, accelerating shocks through the system with potentially very serious consequences for market risk.

MOOD: Cautiously optimistic. While we are very familiar with the risk of global imbalances causing a sudden change in economic outlook and acknowledge that the US economy is likely to grow more slowly as the effect of the Fed tightening policy bites, equities are fairly valued on many measures and companies are producing healthy levels of earnings growth. While European companies did well overall last year and outperformed earnings expectations, the valuation gap between US and European equities has narrowed and further outperformance of European equities is only likely in the event of substantial earnings growth. This is dependent on a more sustainable eurozone recovery. The macroeconomic background in continental Europe is less favourable than elsewhere. Unemployment remains the number one political issue, however. It has not risen enough to threaten economic recession and recent indications point to some kind of recovery during the year.

RISK: I am concerned about investors throwing caution to the winds and moving their money into equities. Driving stock prices up won’t be good news in the medium term for a whole number of reasons. If that happens, I dearly hope that buy-out shops will slow down and sit on their hands until conditions improve.

MOOD: I am optimistic for two reasons. Firstly, in the present lower-return environment, institutions in the UK and Europe will continue to demand more from their bond allocations, in terms of performance and in terms of portfolio structures more in line with liabilities. Secondly, bond markets are likely to hold their value over the coming year as participants realise inflation risks remain contained by both policy makers and the macro economic environment.

RISK: The weight of money in the hands of the private equity funds is already pushing up prices and driving down returns, aided and abetted, for now at least, by banks that are lending at levels never seen before. Some tightening of the debt market may dampen activity.

MOOD: I am not that worried about the high levels of fundraising in 2005. Money has gone to sensible people and, in Europe at least, there has been discipline from the big funds. All this means that there is not an excess of money and the large houses are not underwriting any deals to low returns. High levels of debt and fairly pessimistic growth prospects mean that some highly leveraged deals could hit problems. Expect some big deals to struggle next year – although since most are held by quality firms, don’t expect it to be a disaster – and watch the bubble deflate. With the economy uncertain, I can’t see IPO markets being hot. Trade buyers are back because of rising public markets but for how long? My guess is that the first half will be OK – but any of the problems above may create issues in latter part of the year.

RISK: The biggest influence on market activity over the next 12 months will be the position of debt providers. The present high level of recapitalisations and ambitious terms on larger leveraged transactions may be difficult to sustain over the next 12 months with debt providers potentially being more selective in the type of opportunity they are willing to consider. Selectivity will probably drive greater focus on certain types of businesses particularly those transactions displaying strong forward earnings visibility, good asset cover and operating in growing markets.

RISK: A hard landing in the US, with ripple effects in western Europe that might include euro appreciation, falling exports, etc. But I do not expect this to seriously undermine foreign direct investment or slow down cross-border M&A, our two main sources of dealflow, in central Europe.

MOOD: It should be a good, solid year in economic terms – growth rates of 3% to 4% in the US and 6% to 8% in Asia ex Japan should create a good level of world trade. Moderate interest rates and inflation should provide stability. I expect currency fluctuations to be within a reasonable band with a gradual revaluation of the yuan.

RISK: The biggest risk is a significant deceleration in US consumer demand. There is little that is original in this but it remains the case that global growth is disproportionately dependent on an unsustainable pace of US spending increases. The side effects, which include trade and fiscal imbalances, create a heightened sensitivity to any stalling.

RISK: As in any year, there are a number of risks facing markets. What is important is that private equity firms prepare for these risks as part of the due diligence and ongoing management process. Risks include financial turmoil, interest-rate increases and a general slowdown in the economy. The biggest risk for the private equity industry is increased competition potentially leading to firms overpaying for assets combined with lower exit multiples driven by interest rate increases. Overall, I think the opportunities for private equity outweigh the risks facing the markets.

MOOD: I am looking confidently at 2006 as the stock market has stabilised and there is a vast amount of cash likely to be invested over the next 12 months. This will lead to a strong IPO market and we should see continued M&A activity driven in part by private equity firms who are likely to remain very active. The difficulty is that many asset classes are fully valued, if not overvalued and therefore fund managers are looking for unique situations and alternative asset classes to invest in.

RISK: As a former bond manager I guess I am always very sensitive to the risk we may see a resurgence of inflation and a concomitant volatility in asset prices. Into 2006 this inflationary risk is something to watch in part due to the potential for commodity assets to rise further. Of course the action by the central banks, led by the Fed, may mitigate this, but this action itself will have an impact upon financial assets generating volatility in both equity and bond markets. Volatility is very interesting to any asset manager, bringing a greater opportunity set in terms of potential sources of performance.

NADINE CHAKAR, Chief executive, ABN Amro Mellon

RISK: From a European perspective the lack of harmonisation within the asset servicing world will continue to be a concern. It makes it more expensive for institutional investors and providers to do business and stifles creativity and innovation. But the crazy pricing behaviour among providers is no less a destructive force within the industry because it can easily lead to clients being hurt, as well as being self-destructive for the providers. The potential loss of competition resulting from those who can’t compete on price alone – while being expected to make the investments necessary in technology – could eventually lead to an oligopoly and that threatens the heart of commercial growth in a number of markets.

JOHN YOUNG, Senior partner head of financial institutions practice, Lovells

RISK: One of the biggest risks facing the markets is complacency on the regulatory front. Sadly, as a sector we have a record of recognising the impact of new regulation too late and a lot of people are still catching up with the implications of such concepts as “treating customers fairly”.

MOOD: Cautiously optimistic. The sectors we focus on in the UK – business and support services, financial services, pharmaceuticals/healthcare, consumer and industrial products – are enjoying strong fundamentals. For many months there has been concern about high prices and leverage threatening the private equity market. But I remain sanguine about the returns prospects for appropriately structured, high-quality deals.

RISK: Managing the likely end of the tightening move in the US dollar markets and the start of the easing, while the European markets will go through a series of tightening steps. Will the dollar finally depreciate against the euro?

RISK: Markets now seem more capable of coping with volatility and uncertainty than at any time before: witness reactions to Asia, Russia, WorldCom and Enron in the past and compare that to what was expected to be a meltdown if Ford/GM were downgraded below investment grade. Rate uncertainty would seem to be one of the biggest risks, but 2005 taught us that could be short-lived. Low volume and general disinterest during World Cup 2006 are real threats.